Brexit poker game to be played out from a position of economic weakness

July 11, 2017

By John Wyn-Evans, Head of Investment Strategy at Investec Wealth & Investment

“The UK has seen more disappointing data which included the Purchasing Manager Indices as well as the trade deficit and Industrial Production in May. These come on the heels of very weak Retail Sales, where annual growth is now a paltry 0.6%, whereas it was running consistently over 3% for most of the last three years. Anecdotal evidence is also building negatively, with various surveys pointing to Brexit fears as a reason for subdued investment. One number that has been growing strongly is unsecured Consumer Credit, something which the Bank of England is already trying to subdue because it looks unsustainable. Consumers are spending to the max, with the Savings Ratio reaching a new historical low of 1.7% in March (this data series in its current form goes back to 1963). This while they are being squeezed between falling real wages and rising prices.

“Directing monetary policy in this environment is not an enviable task. Inflation data calls for rate rises by some analysis, but the activity data points the other way. Meanwhile the Monetary Policy Committee is actively debating the right course. Markets are running with the hawks, suggesting a rate rise in March 2018. Such a short horizon has proved to be way too optimistic since the financial crisis, but markets are giving it more credence this time owing to the fact that several central banks around the world are discussing a normalisation of interest rates – ie raising them. We still expect central banks to err on the side of too much inflation rather than too little growth, but you can see from market movements, particularly in the bond market, that investors are nervous about how this plays out. The optimistic view is that things are about as bad as they can get, but we find it hard to see a meaningful bounce in domestic activity. Mrs May’s next plays in the great Brexit negotiating poker game are probably going to going to be made from a position of economic weakness.”